An extremist, not a fanatic

December 01, 2009

Tagging, taxes, justice & efficiency

Why is there so little interest in the economics of tagging? I ask because this is, in theory, the solution to the problem raised by that Compass report (pdf) - of how to combine a more redistributive tax system with greater economic efficiency.Let’s start from the standard objection to proposals to tax the rich more to redistribute to the poor. If we tax the rich heavily, they might work less, or emigrate, so we’ll not raise more money. And if we subsidize the poor, we’ll reduce their incentives to work their way out of poverty.This triggers what is usually a sterile debate between “right” and “left”. The “right” says incentives matter enormously, the “left” downplays them. Yada yada yada.This is where tagging comes in, as described in an ancient paper (pdf) by George Akerlof. Let’s say we could identify a group of people who can’t work their way out of poverty - say, because they are disabled or otherwise disadvantaged. We could redistribute quite heavily to these, in the knowledge that we’re not affecting incentives because, arguendo, they can’t get out of poverty anyway.Equally, if we could identify some people with high ability, we could tax them on their ability, not their income. This would allow us to raise money from high earners without affecting incentives - because high ability people would have to pay the same tax even if they work less.So, if we could “tag” low-ability or high-ability people, we could tax and redistribute according to these tags, rather than (just) according to income. This would then mitigate the trade-off between equality and efficiency. The question, then, is: are there such tags, which are well correlated with high or low ability? The important thing here is that the tags be easily identifiable and incentive-compatible. This rules out some possibilities. For example, high IQ is not a good tag. If we taxed folk according to this, smart people would pretend to be stupid, or even deliberately reduce their IQ. Nor is a lack of qualifications a good tag; if we gave a grant according to this, we’d give kids an even greater incentive to bunk off school. For the same reason, obesity is a bad tag, as Homer Simpson showed.However, this still leaves loads of possibilities. We know that black men do badly in the labour market, so could use this as a tag, and pay men for being black. This is just - it tackles poverty. And it’s efficient. It doesn’t distort incentives, as it would give black men an incentive to earn more, as they’d still get the payment even if they earn decent money. Equally, there are lots of correlates with ability - and earnings - that cannot be hidden, such as height, looks, gender or being privately educated. All of these are good candidates for tags that could attract higher taxes. After all, if you tax me on my income I might respond by reducing my pre-tax income. But if you tax me on my height, I‘ll not make myself shorter*. In theory, then, taxing and redistributing according to tags is more efficient than doing so according to income - as it’s more income-compatible. However, although economists have shown lots of interest in this theory, there is almost no interest in it among politicians. This is despite the fact that they have in recent years moved towards adopting other principles (pdf) of optimum taxation theory. Why is this? Does it show that there’s a big gap between what’s just and efficient and what’s “politically acceptable” (taxing public schoolboys and subsidising black males would be a hard sell!)? Or are there other flaws with taxing tags? * I’m ignoring the problem of emigration here, but there are tags that could deal with this, in theory.

Comments

Maybe people prefer to swallow incentive related costs than the 'errors' that would be the inevitable result of working on the basis of correlates of income rather than income? i.e. still redistributing money to wealth black men.

How would the dynamics work - how often would the tags and associated transfers be recalculated? How would the tags themselves interact with the bases for their calculation?

For example, if black men receive a transfer, what does that imply for the equilibrium wage for black men? Wouldn't employers just end up paying black man less and then wouldn't that be used to justify the transfer to black men in perpetuity?

For a theoretical, highly abstracted "average black man" that might seem fair, but individual ability and life chances vary massively within any given group as you are clearly well aware. Do you really think that giving taxpayers' money to well-off black professionals for no reason other than race will have any positive effects whatsoever?

Furthermore, I suspect a lot of black people would be incensed to be described as "a group of people who can’t work their way out of poverty" - where there are obstacles to achieving this, causes (education, prejudice...) can and should be addressed rather than trying to subsidise equality of outcome. Your initial comparison with disability (which may provide some genuinely insurmountable barriers in particular fields) is therefore inappropriate.

I'm generally a fan of your writing but this is one of your occasional posts which pursues a novel idea way past the point where common sense should have intervened.

I sympathize with your response, and agree people probably would be incensed by this idea, but I think you have missed the point. When you ask: "Do you really think that giving taxpayers' money to well-off black professionals for no reason other than race will have any positive effects whatsoever?" the answer is "yes, when it happens because of a rule that allows redistribution to take place without affecting incentives".

Incidentally, you don't have to believe that recipients of the transfer cannot work their way out of poverty, only that they face a structural disadvantage of some sort, which if you believe that racism is still a problem in the UK, then black people do.

"We know that black men do badly in the labour market, so could use this as a tag, and pay men for being black. This is just - it tackles poverty. And it’s efficient. It doesn’t distort incentives, as it would give black men an incentive to earn more, as they’d still get the payment even if they earn decent money."

I have to agree with Luis sentiments about people perhaps preferring to "swallow incentive related costs than the 'errors' that would be the inevitable result of working on the basis of correlates of income rather than income?"

I understand your point that we could perhaps implement a system of tax which is redistributive and doesn't destroy incentives for people who can work and generate wealth (and tax revenue) to do so. Surely you must see the problem in a tax system which takes wealth from a particular racial group and gives it to another in the form of subsidies? Even though the intent behind the proposal is one of social responsibility and not racially motivated, this could very easily be taken the wrong way by a very large portion of the general public.

Your proposal is economically efficient, but whether or not it is just is a contentious point at best. What is just about taxing a poor white man to subsidise a rich black woman?

I don't see how this is an objection to Chris at all. The idea that we segregate society and treat different groups differently is so mainstream as to be barely noticable. Do you disapprove of state pensions? Healthcare based on how ill you are? Maternity leave? Tobacco being illegal for children?

You can disagree with the particular tags Chris has mentioned (with race probably being the most contentious), but just raging against the idea of different sections of society being treated differently is nonsensical in itself.

Where you can easily attack Chris, and others already have, is the ludricrous sentence "This is just - it tackles poverty." I realise that justifying the claim is well beyond the scope of this article, but just throwing it in without acknowledging the gargantuan assumptions needed to support it is completely disingenuous.

Thanks chaps. Yes, that sentence "this is just - it tackles poverty" does need unbundling. I was, subconsciously, accepting - for the sake of the argument - the standard lefitst idea that inequality and injustice are very similar; if you don't believe in a case for income redistribution, then the post is simply irrelevant, as it addresses an issue that shouldn't arise.
I don't think I'm arguing that tag taxes should replace income tax - rather, that they should supplement them, so the problem that a poor white man would pay less tax than a rich black one needn't arise.
And, Jackart, my arguments are founded not upon any leftist degeneneracy, but upon orthodox optimal income tax theory. Not many people think of Jim Mirrlees as a mad leftie.

"I don't see how this is an objection to Chris at all. The idea that we segregate society and treat different groups differently is so mainstream as to be barely noticable."

No, I don't think it's all that mainstream. Treating people as categories is certainly popular with the nasty authoritarians currently in government. I would have thought that, to borrow a phrase from our American cousins, "We hold these truths to be self-evident, that all men are created equal, that they are endowed by their Creator with certain unalienable Rights" was a rather more mainstream place to start.

"Do you disapprove of state pensions? Maternity leave? Tobacco being illegal for children?"

These things are applied equally to all people. Old people aren't a separate set of people from young people - they're the consequence of starting with a group of young people and waiting.

"Healthcare based on how ill you are?"

And this one is based on the individual. If an individual breaks his leg, we put it in plaster. We don't come and slap a cast on you because many people who are similar to you have broken their legs recently.

As well as philosophical objections to this idea, there are practical ones. These tags are going to be generated and weighted by some government body, no doubt supported by a bunch of government-supported "charities", "research bodies" and whatever else. The boundaries will obviously be gerrymandered to divert extra cash to the government's favoured client voters.

"I don't think I'm arguing that tag taxes should replace income tax - rather, that they should supplement them, so the problem that a poor white man would pay less tax than a rich black one needn't arise."

Chris, I think you mean to say "so the problem that a poor white man would pay MORE tax than a rich black one needn't arise."

Anyway, I still don't feel this would adequately address my objection. Take two men in the same position: same age, same education, same jobs, same salaries, etc. etc. the only difference between these men is that one of them is white while the other is black.

Under your proposed tagging system the white man would pay more tax than his black neighbour. Even though your proposal may seem just on a macroeconomic scale, what is just about this microeconomic situation?

Badly, badly illegal (ECHR/ HRA 1998), politically suicidal, open to no end of gaming and corruption, and will simply lead to entire societies scrabbling madly for the right tag and avoiding the wrong tag WHATEVER it is. No human will ever accept any fairness in a tax band set according to their height...

@Phil - of course, the public won't accept these proposals. But are they right not to do so?
Yes, my proposals are discriminatory. But so is income tax - it discriminates on grounds of income. And schools and the police discriminate against black men every day. Why get upset about some offsetting discrimination in their favour? Why are some forms of discrimination acceptable and others not?
Yes, tags are subject to gaming and corruption. But so is any tax system.

Chris, income tax discriminates on the grounds of income, but income is something which people have a choice about. You can very easily avoid (not evade) paying income tax by not earning any money (or earning below the threshold at which income tax is payable). Of course, most people choose not to do this as it is better to pay some of your earnings in tax than to forego them entirely. The crux of the matter is if you want to pay less income tax it is very easy to do so simply by seeking a lower paid job. The idea you present here to tax based on arbitrary, superficial 'tags' allows no escape from these taxes whatsoever (again, ignoring emigration).

"And schools and the police discriminate against black men every day. Why get upset about some offsetting discrimination in their favour?" That is no defence. Discrimination (positive or negative) towards a particular group of society over something arbitrary and outwith their control (such as height, gender or skin colour) is unacceptable. The solution to prior acts of discrimination is not to discriminate in the opposite direction it is education.

Your last comment illustrates the crux of the problem here: We essentially have a choice between economic inefficiency or discrimination based of arbitrary, superficial traits. Your arguments so far have failed to convince me that we should opt for the later and I think the most likely explanation for why this proposal has not been seriously considered by politicians is that the general public would be inclined to agree.

I think Obama has a ton of terrible policies in place, like this one. And in terms of the economy, I think that he has instructed the the Fed and Treasury to do whatever is necessary to try to avoid deflation at all costs, the govt will keep printing money hand over fist. That's why I think gold and gold mining stocks will continue to be the best sectors to invest in. One gold miner I particularly like is Claude Resources, which I recently saw announced that its Madsen gold mine contains more than twice what the market expected their gold resource to be. There is an article on it called Claude Resources Reports 1.25 Million Ounce Gold Resource at Madsen at http://www.goldalert.com/goldmining/clauderesources . And this news sent the stock up the other day even though the gold price was down, a further sign of strength in this news. While the stock has performed very well in 2009, I think it still has a long way to run because of the leverage it offers to the gold price and the variety of projects it is developing.